Return of premium term life insurance is certainly a hot topic these days, so where do you turn to get an unbiased analysis of whether or not it is a good fit for your financial needs? I guess my best advice is simply to steer clear of anyone that thinks it’s the right answer for everything.
After years of analyzing ROP, it is very clearly not a one size fits all type of product. The premise is attractive. You buy term insurance and if you don’t die you get all the money you paid in back. Here is a Forbe’s magazine take on the idea.
Forbes is clear about how the whole deal works. The insurance companies simply overcharge for the insurance allowing them enough extra interest earning excess that, even after paying back all the premiums at the end of 20 or 30 years, they make a handsome profit. The real frosting on this cake for the insurance companies is not that they got to use excess premiums for 30 years, but if they’re paying back the premiums that means they got out of paying “the big one”, the death benefit.
I don’t mean to infer that the insurance companies are getting their cake and eating it too. I believe there are certain instances where return of premium can be appropriate, if not purely the prudent choice.
The first place where I think this idea has some real merit is with younger adults. For instance if you take a young married couple around 30. Some would say buy whole life because term insurance won’t last long enough and whole life is permanent. Those are whole life agents and what they want is large premium, large commission and large renewals. But consider this.
People at 30 barely have a grasp of life insurance and certainly don’t have a handle on whether their life insurance needs are temporary or permanent in nature. They generally do have two things way in their favor, they’re young and healthy. I believe a 30 year ROP policy is a prudent move. Numero uno, it gets them insured. Second, the rate is locked in level for 30 years, into the years when they will in fact have a handle on what their real insurance needs are. Third, the policy is convertible so their youthful health rating is locked in for the full term and they can always convert all or part of the policy to permanent coverage. Lastly, at the end of the 30 years they have the option of taking a full tax free cash refund or rolling the returned premium into a permanent converted policy to drive the cost of the new policy down.
That’s what I recommend if you’re young. You can get a lot more coverage for a lot less money than whole life and the ROP policy has more flexibility and options.
Another perfect fit is key person business coverage. Often a company will carry a policy on a key person simply because they have economic value to the company. Their death would cause a financial setback that the policy can offset. A key person generally happens to be someone that a company depends on for a long time and would like to reward for their service upon retirement. So, the company can protect themselves and, if the key person lives to retirement, they can use the returned premium as a retirement bonus.
Outside of those two areas I think the product should be carefully weighed against your own ability to invest the difference between the premiums for straight term and ROP. Also, budget should be carefully considered. Does the increased premium stretch your budget or cause you to purchase less insurance than you need?
Bottom line. Return of premium is a product worth a look, but it isn’t right for everyone. A good independent agent should be able to crunch the numbers for you on all of the available options and help you make the right choice.
My 20 years of experience give me the knowledge and leverage to find reasonably-priced life insurance for people who have been declined or are paying more than they need to.
Great perspective on ROP term life insurance.
One more thing for people to consider when signing up for an ROP term product for 20 or 30 years is the investment commitment they are making.
Say you are comparing an ROP term policy to a regular term policy from the same company and calculate that you’ll essentially be locking in a guaranteed tax free 6% on the extra premium for the ROP product. If you decide to lapse the policy prior to the end of the term you will get much less than your return of premium. Usually the companies only give the required minimum cash value if you lapse prior to the end of the ROP period and that will produce a much lower return on your investment. If you plan on going with an ROP, then you better plan on sticking it out. On the other hand it is rare to find investments that force you to wait 20 or 30 years before you can see the returns on your investment.
Michael,
Good point. 6% is pretty lame when someone locks up your money for 30 years. The return of premium, as you point out, is weighted heavily toward the end of the contract. The typical illustration would show the cash return not hitting 50% until the 25th year of a 30 year term and then going up 10% a year to the end.
Thanks for the input.